Monday, November 04, 2013 - SAC Chairs Avoid Hard Time

SAC Chairs Avoid Hard Time

by Sinclair Noe

DOW + 23 = 15,639
SPX + 6 = 1767
NAS + 14 = 3936
10 YR YLD - .02 = 2.62%
OIL - .12 = 94.49
GOLD – 1.20 = 1315.60
SILV - .21 = 21.76

Stock markets finished October in fine fashion. Remember there was a brief rally in September when the Fed did not taper QE; then there was a rough patch as the government shutdown and tiptoed to the edge of not paying its bills, but that's all behind us now, at least for a month or so. December is now the next foreseeable turning point in the Washington budget battles. That's when a report is due from a joint congressional budget conference. Corporate earnings have been generally positive, even as guidance has been less than exuberant, but that's the game of earnings expectations: under-promise and out-perform. The S&P 500, the Dow industrials, and the small cap Russell 2000 saw new all-time highs last month; absent a big collapse, the Russell is on track for one of its best years of performance ever. The Nasdaq Comp, is still a long way from records but the petal is to the metal.

Since the start of the year through the end of October, the Russell and the Nasdaq are up more than 29%; the S&P 500 is up over 23%, and the Dow has added 18%. Looking forward to this week, a slew of economic data will be released, including: factory orders, the ISM non-manufacturing index, jobless claims, GDP data and personal income and outlays. Earnings season continues. Meanwhile, the soon-to-be former chairman of the Federal Reserve Ben Bernanke will speak on a panel in DC about “Policy Responses” to Crises. The correct answer according to Bernanke is to crank up the digital printing press and shower Wall Street with money.

Today, St. Louis Fed President James Bullard said inflation is too low and he'd like to see tangible evidence that inflation is moving closer to the Fed's target of 2%; that's an argument against tapering in the near term. Bullard thinks the Fed should ignore the “bickering in Washington” largely because it won't go away any time soon. Bullard thinks there will be too many distortions in the Friday jobs report to use the data in a definitive manner. So, all in all, it is a very low probability the Fed will taper in December. We would likely need to see inflation make a very big jump and see the next two jobs reports with net new jobs over 200,000. Doubtful. But we could see taper; it is still in the realm of possibilities. Or maybe we'll see the Fed double down and start buying $170 billion a month in treasuries and MBS. Also doubtful. The only certainty right now is that the Fed is providing fuel to the markets and for now the markets are moving higher.

If history is any indication, the market should see a fourth quarter rally. Shares have climbed in the final two months 82 percent of the time since 1928 when the benchmark gauge advanced at least 10 percent through October. So, the pump is primed. And if the averages hold, the S&P 500 could see a 6% increase in the final two months of the year, which would put the S&P at about 1850 by year's end. But that doesn't guarantee an end of year rally; a weak holiday shopping season could slow down the train, and Fed taper could slam on the brakes and send sparks flying. But for the moment, Wall Street is happy and traders are counting their bonus.

The bear market case is supported by rapidly rising price to earnings ratios, bullish sentiment on Wall Street, margin debt at 5 year highs, and the market has gone almost a year and a half without a real correction, so you have to figure we'll get one at some time. But if you're really counting on a correction, a serious, bring you to your knees correction, then you would look at the Fed hiking rates or tapering from QE combined with higher energy prices. Right now, the price of oil is back under $95 a barrel. No worries.

There will be no bonuses at SAC Capital; might not be a SAC Capital. SAC Capital Advisors has agreed to plead guilty to insider trading violations and pay a record $1.2 billion penalty, becoming the first large Wall Street firm to confess to criminal conduct since the days of Drexel and Michael Milken. The guilty plea and fine paid by SAC, which is owned by the billionaire investor Steven A. Cohen, are part of a broader plea deal. It also will impose a five-year probation on the fund and require SAC to terminate its business of managing money for outside investors, though the firm will probably continue to manage Cohen’s multi-billion dollar fortune. Cohen has not been charged criminally.

SAC’s admission that several of its employees traded stocks based on secret information also sours Cohen’s investment track record. Since 1992, the fund posted average annual returns of nearly 30 percent. The $1.2 billion penalty adds to the $616 million in insider trading fines that SAC agreed to pay to federal regulators earlier this year. Cohen, who owns 100 percent of the firm, will pay those penalties.

The plea deal does not incorporate a separate civil action by the SEC against Cohen. Also, authorities continue to view Cohen and other SAC employees as targets of a continuing criminal insider trading investigation. The plea agreement expressly states that it “provides no immunity from prosecution for any individual.” The firm will not trade about $6 billion in outside investors accounts but Cohen still has a personal fortune around $9 billion, and the firm will likely stay open to accommodate his personal wealth.

This was probably not a difficult deal for Cohen to make. He still keeps a big chunk of money, no matter how much was ill gotten. It’s far easier for SAC Capital as a corporate entity to plead guilty and settle with the government because it doesn’t have to worry about being incarcerated. The government is not going to incarcerate the chairs and desks. For now, SAC appears to be intact; prosecutors did not freeze assets. The corporate entity does not go to jail; just one more reason why corporations are not people.

Even before the deal could be done, it's coming under fire. The lawyer for a class-action suit over SAC’s trading in drug company Elan has asked a federal judge to reject the potential settlement. Federal judges have started to balk at rubber-stamping settlements in which defendants neither admit nor deny wrongdoing; a step in the right direction, but this deal with Steven Cohen seems to confirm that for Cohen at least, crime pays.

Another big settlement today involving big pharma. The Justice Department says Johnson & Johnson will pay more than $2.2 billion in criminal and civil fines for marketing drugs Risperdal, Invega and Natrecor for uses they weren't approved. The settlement also covers charges that the company paid kickbacks to doctors and pharmacies promoting the drugs.

The criminal filings said Janssen Pharmaceuticals, a subsidiary of Johnson & Johnson, marketed Risperdal for unapproved uses. The drug, approved to treat only schizophrenia, was marketed to also treat anxiety, agitation, depression and apparently anything that might feel better by taking a pill, preferably a blue pill.

The Johnson & Johnson subsidiary, Janssen, will pay $400 million for the illegal marketing, while Johnson & Johnson will pay $1.7 billion to settle civil cases with the federal government and 45 states.

You've heard of Blackberry's plans to sell itself. The mobile phone manufacturer never quite caught up with other smart phone makers. Today saw the collapse tentative takeover offer from Blackberry's largest shareholder. Blackberry's CEO resigned. The shareholder, Fairfax Financial Holdings, and an unnamed group of institutional investors will invest $1 billion through debentures that can be converted into common shares at a price of $10 a share.

A scientific panel set up by the United Nations has found that climate change will pose a serious threat to the world's food supply in the coming decades. The findings aren't set to be announced until March and are still undergoing editing, but a copy of the report has leaked online, and ended up on the New York Times. The findings come from the Intergovernmental Panel on Climate Change (IPCC), which has been releasing reports on the matter around every six years. The report paints a decidedly grim picture. Climate change will pose sharp risks to the world’s food supply in coming decades, potentially undermining crop production and driving up prices at a time when the demand for food is expected to soar. And they say they are already seeing the harmful effects in some regions.

On the food supply, the new report finds that benefits from global warming may be seen in some areas, like northern lands that are now marginal for food production. But it adds that over all, global warming could reduce agricultural production by as much as 2 percent each decade for the rest of this century. During that period, demand is expected to rise as much as 14 percent each decade, the report found, as the world population is projected to grow to 9.6 billion in 2050, from 7.2 billion today. The report finds agricultural risks “are greatest for tropical countries, given projected impacts that exceed adaptive capacity and higher poverty rates compared with temperate regions.” And yes, hundreds of billions of dollars are already being spent in an effort to reduce emissions in response to previous findings by the IPCC.

Friday, July 26, 2013 - Notes from the Favela

Notes from the Favela

by Sinclair Noe

DOW + 3 = 15,558
SPX + 1 = 1691
NAS + 7 = 3613

10 YR YLD - .01 = 2.56%
OIL - .82 = 104.67
GOLD - .30 = 1334.80
SILV - .26 = 20.09

Earlier in the week, the Dow and S&P hit record highs but the markets slipped; earlier today the Dow was down 150 points. For the week, the Dow rose 0.1 percent, the S&P 500 was flat (even as it hit a record) and the Nasdaq rose 0.7 percent.

It's Friday, and I have a bunch of notes and scraps that have been piling up, so we'll clean the desk, in no particular order.

The Thomson Reuters/University of Michigan's final reading on the overall index on consumer sentiment climbed to 85.1 from 84.1 in June, topping expectations for 84. It was the highest level since July 2007 and was also an improvement from July's initial reading of 83.9. Of course, if you paid a premium subscription, you could have had that information before the rest of the market.

Yesterday, I mentioned former Fed Chairman Paul Volker's remark that the only real financial innovation in the past 20 years was the ATM, which is actually about 30 years old now. And Volker wasn't quite right; the banks haven't done any real innovation but the hackers have. For nearly a decade, a band of cybercriminals rampaged through the servers of a global business who's who: Among the victims were 7-Eleven, Dow Jones, Nasdaq, JetBlue and JC Penney. Prosecutors say the hackers stole "conservatively" 160 million credit card numbers, and the dollar value of the crimes they helped facilitate is enormous; just four of the victims are out $300 million. The prosecutors say it's the largest data heist case ever and the suffering caused to identity theft victims was "immeasurable".

On Thursday, five of the gang's members were indicted. One is in custody in the US, a second is awaiting extradition in the Netherlands, and three more are still at large. Maybe if the banks paid more attention to providing a safe place to store money and a safe way to facilitate digital transactions, and if they spent less time trying to trade derivatives; maybe there could have been some financial innovation that actually was innovative.

The Federal Housing Finance Agency says the Swiss bank UBS has reached a settlement and will pay $415 million to the government-sponsored housing enterprises Fannie Mae and $470 million to Freddie Mac to resolve claims of misrepresenting the quality of collateral backing securities sold to Fannie and Freddie between 2004 and 2007.

The bank has already paid out $612 million to settle allegations of manipulating interest rates. UBS is now the third bank to settle with the FHFA after Citigroup and General Electric did so for undisclosed sums. UBS is just one of 18 banks the FHFA pursued in 2011 for allegedly lying about the quality of the collateral backing securities; essentially packaging subprime loans and selling them as a better quality.

 Home Affordable Modification Program or HAMP has been something of a disappointment nearly from its inception. After loudly touting the program’s ability to help 4 million borrowers, the administration was forced to concede it had barely helped a fraction of that number, or roughly 1.2 million mortgage modifications; and some advocates and administrators in the program actually came right out and declared the thing a failure. However, in recent months, we’ve been hearing a lot about how HAMP is finally getting going and hundreds of thousands of borrowers are getting the loan modifications that they need. What we haven’t heard until now, though, is just how many of them are re-defaulting on those loan modifications just months or years later; the number is now at 306,000.

I can see why many people think the HAMP program is a dud, but just to maintain perspective the Hope For Homeowners plan initiated by President Bush set aside $300 billion to refinance toxic loans and in 3 years time it managed to modify 71 loans; and the FHA-Secure plan managed to refinance 4,100 mortgages over a 3 year span. As far as the high number of re-defaults, the modification programs never dealt with the underlying problems, and for many, relief was just too little, too late.

One year ago today, Mario Draghi, the president of the European Central Bank spoke at an investment conference and he said:  "the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough." The speech seemed to revive markets and stave off what looked like an impending collapse. A few weeks later, Draghi introduced OMT, or Outright Monetary Transactions, a conditional bond buying program. Spanish and Italian bond yields stabilized, even though the ECB hasn't actually used OMT to actually buy bonds. Germany’s constitutional court is due to rule later this year on OMT’s legality under German law. The ECB hasn't exactly managed to forge a solid plan, and so the financial improvement has not been accompanied by a meaningful change in what matters most: namely, the ability to generate economic growth, create jobs and arrest excessive income and wealth inequalities.

Earlier this week we marked the 3 year anniversary of the Dodd-Frank Act. Which is to say it was passed onto law, although less than half of the Act has been enacted. Mainly, it's been a battleground for bank lobbyists trying to tear out the entrails.

A federal grand jury indicted Steven A. Cohen's hedge fund SAC Capital Advisors on fraud charges. The hedge fund was charged with wire fraud as well as four counts of securities fraud, and the government is seeking to force SAC to surrender any fraud-related profits. According to the indictment from roughly 1999 to 2010, SAC obtained and traded on inside information to boost returns and fees and that the scheme involved a number of portfolio managers, research analysts and dozens of publicly traded companies.

The government has also filed civil money-laundering charges against the firm, which call for fines and penalties to be determined at a trial, the date of which hasn’t been set. Those civil charges pose the greatest threat to Cohen’s fortune because prosecutors allege that if the fund reinvested the proceeds of illegal insider trading into its capital pool, then the entire pool is tainted and subject to forfeiture, but it's expected that prosecutors won't try to go after the entire amount.

SAC oversaw $6 billion for outsiders at the start of this year, but have since withdrawn about $5 billion. The big question for those folks is whether they will face clawbacks. SAC is almost like Cohen's personal hedge fund; he has about $7.5 billion in SAC’s funds and employees account for $1.5 billion of assets. And the fund is conducting business as normal, or somewhat normal. Cohen wasn't named in the criminal indictment and faces no threat of prison time. In the corporate criminal world, avoiding indictment is the key battleground.

What does it take to be considered wealthy? A new survey finds the majority of people with a net worth of between one and five million dollars do not consider themselves wealthy; 28 percent of people worth between $1 million and $5 million call themselves wealthy. For people worth more than $5 million, just 60 percent of them say they’re rich. Of those surveyed, 50 percent said they’d consider themselves rich if they had no financial constraints on activities. So, it's not really a number.

Tell that to Eike Batista; he's the Brazilian oil tycoon who started 2012 as the eighth richest person in the world; net worth estimated at $34 billion; now that has dropped to $200 million. You might think that $200 million is a lot; if you had that money, you might think you were wealthy, but I'm not sure if that's how Batista feels. So, it's not really a number.

A few months ago, a Senate committee grilled Apple CEO Tim Cook over the company’s creative accounting strategies, accusing it of cheating the U.S. Treasury by stashing away billions of dollars that live in no tax jurisdiction at all. The company didn’t dispute the truth of the accusations, but blamed the United States for building a tax system that makes bringing overseas earnings back to the United States very expensive, and proposed simplified rules that would make it cheaper to do so.

The Organization for Economic Cooperation and Development has been working on the problem; in February they issued a report. The G20 held a meeting last weekend and they said they want a more globally uniform tax system, and they want the OECD to finish up a a concrete plan to crack down on tax cheats, and they want that plan within the next 2 years.

More problems for Boeing's troubled 787 Dreamliner today; one was grounded, an oven overheated in another and damage was found in wiring on two other planes. It's turning out to be like a flying cruise ship.

Halliburton Co has agreed to plead guilty to destroying evidence related to the 2010 Deepwater Horizon oil spill in the Gulf of Mexico, which killed 11 workers and left a horrific mess. The guilty plea is the third by a company over the spill, and requires the world's second-largest oilfield services company to pay a maximum $200,000 statutory fine; that's about how much Halliburton earns every 23 seconds, based on 2012 revenue numbers. Halliburton also made a separate, voluntary $55 million payment to the National Fish and Wildlife Foundation, plus 3 year probation.

Meanwhile, another Gulf of Mexico drilling rig caught fire this week off the coast of Louisiana. The blaze broke out Monday on a natural gas platform. The rig partially collapsed, but then sand and sediment covered up the spill and the fire is out or nearly out; and because it is natural gas it dissipated quickly in the ocean water. No one was injured.

Meanwhile, TEPCO, the Tokyo Electric Power Company finally admitted today, what had been suspected for quite some time; the Fukushima Dai-ichi nuclear power plant, the one damaged in the 2011 eathquake and tsunami, has been leaking contaminated water into the ocean. They don't know how much damage has been done by the leaks; they don't have a plan to clean it up and they don't seem to have a plan to stop it.

The northeast of Brazil is largely poor and rural. Years ago, there was a migration to the South, to the major cities of Rio de Janiero and Sao Paolo. The migrants were looking for jobs, industrial jobs. There were more people looking than getting. The migrants camped out. In Rio, they camped out in the hills surrounding the city. Eventually the encampments turned into shacks, the shacks turned into homes, but the entire process was haphazard. The homes lacked modern conveniences, and so the residents strung up illegal lines, they built illegal plumbing. The shacks turned into homes turned into small cities; slum cities known as favelas. The houses were built close together, the roads often not more than a tight alleyway, difficult for police to patrol. Poverty and unemployment were high. Gangs soon became a stronger authority figure than police; crime was pervasive; hope was not.

The favelas grew over time. In Rio, a city of more than 11 million people, it is estimated that more than 4 million live in favelas, or slums. The largest favela, Rocinha, is home to more than 500,000. Last year, the government sent in police with machine guns and armored vehicles to clean up the favelas in advance of the World Cup Soccer tournament next year, and the Olympic Games in 2016. You would probably not feel safe walking through a favela.

There is a favela in the north part of Rio, known as Varginha; it is very poor and violence is common. Built on swampland, Varginha is one of several favelas that have been "pacified," meaning the drug lords who once ran the place have been ejected or subdued by authorities. The government has allocated money for community centers, libraries and a train station. But residents say they have received more broken promises than actual help, and basic services such as sanitation remain woefully unavailable. They also complain that police are abusive and treat everyone like a criminal.

Pope Francis is visiting Brazil. He is not meeting with Brazil's president; the Pope instead headed to Varginha, telling residents of the notorious slum that their leaders must do a better job of helping them. The Pope said public authorities and "those in possession of greater resources" must "never tire of working for a more just world, marked by greater solidarity!" He told the crowds that "No one can remain insensitive to the inequalities that persist in the world!"

It was the most political message yet in the pope's pilgrimage to Brazil, and for many it echoed the enormous protests that erupted last month among Brazilians angry over government corruption, excessive state spending on upcoming international sports events, and lack of basic services such as education and healthcare.

And then after visiting the favela, he went to another favela, known as the City of God and he visited with recovering drug addicts, saying , “It is necessary to confront the problems underlying the use of these drugs, by promoting greater justice, educating young people in the values that build up life in society, accompanying those in difficulty and giving them hope for the future.”

And along the way, the Pope opened the windows of the Popemobile and even got out to walk with the crowds of people and kiss babies and give hugs and blessings to the crowds of people; he visited a little speck of a Catholic chapel; he just walked up to the modest home of a local family and was welcomed like a long lost brother. The security detail must have freaked out, but even in the most dangerous and violent slums of South America, there was not even the hint of a problem.

He stressed to the people of the favelas that he is on their side, saying: “The church offers its collaboration on all initiatives that lead to the development of all people. The church is with you. The pope is with you.”

Hours later, speaking under a rainy sky at the beach in Copacabana, the pope’s message to the more than one-million faithful was to shake up the church and make a “mess” in their dioceses by going out into the streets to spread the faith. He was less political and more centered on the importance of believing in Jesus. “He is a friend who does not defraud. ”

There has been revolution in the Middle East – the Arab Spring, and the n the Arab Spring-Part2. And throughout much of Europe there have been protests, especially in the periphery. It seems that we have forgotten what is important. How much real-world difference the papal visit might make remains to be seen. John Paul II visited the favelas of Rio in 1980, and obviously the underlying problems hardly disappeared in the intervening 33 years, but the Pope is the spiritual leader of more than one billion souls. And even if he can't change the reality on the ground, maybe he can make us consider how we keep score. He said, "The measure of the greatness of a society is found in the way it treats those most in need, those who have nothing apart from their poverty."